FAQ - Shareholders' Agreement

1. What is a Shareholders’ Agreement?

A shareholders’ agreement is a contract among some or all of the shareholders of a company in which they agree to regulate the exercise of some of their rights as shareholders in particular ways. It applies to all company structures where members purchase shares.
A shareholders’ agreement is supplementary to the company's constitution which will be interpreted in the light of the shareholders’ agreement. It is common to provide that in the event of an inconsistency between the constitution and the shareholders’ agreement the shareholders’ agreement will prevail.
It will generally regulate shareholders’ rights and the management and operation of the company. The shareholders’ agreement details a shareholder’s responsibilities and liabilities to other shareholders as well as the process to be followed should there be a dispute. It can also provide for key decisions to be made jointly with minority shareholders.

2. What are the potential problems in the absence of a Shareholders’ Agreement?

There are a number of potential problems if a company does not have a shareholders’ agreement:
- The rights of minority shareholders are limited under the company's constitution. In this instance, the minority shareholders must rely on the Courts for assistance if they have a complaint about the way in which a company is conducted. The Courts only provide help in limited circumstances and always at great cost.
- In the circumstance where the shareholder or the shareholder’s estate wishes to sell shares upon retirement, disability, death, or for any other reason, the proprietary company constitution is often silent. Unless these events are adequately covered in a shareholders’ agreement, the only potential purchasers are the existing shareholders. If they don't want the shares, (or aren't prepared to pay full value for them) the shares remain unsold or are sold at far less than their true value.
- The death of a shareholder can result in the shares being worthless to the deceased's estate because there is no purchaser. On the other hand, the beneficiaries who inherit the shares (eg. the deceased's spouse) may wish to become actively involved in the company against the wishes of the other shareholders. In these circumstances the shareholders’ agreement needs to be appropriately drafted to cater for the resolution of such deadlocks.

3. What is included in a Shareholders' Agreement?

A shareholders’ agreement can bind the shareholders to protect share value and control who becomes a future shareholder. It can further regulate matters that are not covered by the company constitution.
A shareholder agreement should cover all aspects of the relationship and the mechanics by which the company is to be operated. The agreement should also protect the respective interests of the parties to the agreement and outline dispute resolution provisions in the event of any disagreement between the parties.
A shareholders’ agreement should include:
- Rights of participants of dispose of their shares
- Shareholder exit strategies
- Rights in the event of default by any participant
- Shareholder warranties
- Voting rights for the shareholders
- Rights to dividend payments covering information to be provided to participants
- Confidentiality agreements
- Mechanisms for breaking deadlocks
- Restraint of trade for directors and/or shareholders
- Agreement specifying or limiting business activities of the company
- A shareholder's right to appoint directors and the number of directors
- Directors’ meeting procedures
- Agreement concerning financing policy
- Policies, management and procedures
- Protection of minority shareholder interests

4. How may current Shareholders Agreements be strengthened?

Ensure that business succession issues are satisfactorily addressed in detail to provide protection if there is no company constitution or this matter is not raised in a company constitution. In the event of an involuntary or voluntary departure by a principal of the business which may include departure due to death, total and permanent disablement or traumatisation of the principal, the shareholders’ agreement should include provisions for funding mechanisms such as insurance.
Secondly, the shareholders’ agreement should adequately deal with fundamental business management issues. Failure to address these adequately can lead to expensive litigation, loss or diminution of a valuable asset (such as the equity of the business) or even the failure of the business itself. An example would include the failure of a business because the continuing principals are unable to finance the buyout of the exiting principal.